Question

How is the equilibrium exchange rate determined under a flexible exchange rate system?
(1.2 marks)

What are the main factors that contribute to changes of the Australian dollar 1) in the short run and 2) in the long run. (0.5) marks

Answer 1

Answer 1 = Under flexible exchange rate, equlibrium exchange rate is determined by the Market forces of demand and supply. So we can say that equlibrium exchange rate occurs only when the demand as well as supply are equal to each other

Answer 2 = main factor that contribute to change in Australian dollar in-

Short run -

• Interest rates
• Economic growth
• Inflation
• Natural calamities

Long run -

• Price of commodity
• Purchasing power parity
• Sentiments as well as speculations
• Credit rating of government